GoBuyside Explains Why Private Equity & VC Compensation Continues to Rise
When large multi-national firms reveal exactly just how much money their top executives make each year, the companies list salary, bonus and, in many cases, stock options or grants. Often, this can add up to tens of millions of dollars and a recent study by the Economic Policy Institute shows that America's largest firm's CEOs make 271 times the annual average pay of the typical worker. Additionally, CEOs often pocket money from a variety of additional sources that can total hundreds of millions of dollars a year.
Get this, in the last two years, Stephen A. Schwarzman, the chief executive and a co-founder of the Blackstone Group, received the largest sum. In 2017, he collected just under a whopping $800 million, up from $689 million the year before. Schwarzman is not alone and the trend of rising compensation in the private equity market has been exhibited over the last decade.
To give some insight, we had a chance to speak to GoBuyside, a global recruitment platform that specializes in recruiting talent in the private equity industry. Three forces driving increased private equity and venture capital compensation are:
1. Competition for talent amongst a limited supply of investment professionals
Private equity is a sport. The skills that investment professionals develop over time can be taken with them to other firms almost instantly. When Kevin Durant or Neymar Jr. transfer teams, the ability for their new franchises to compete for trophies improves drastically. Similarly, investment professionals develop expertise overtime completing successful private equity transactions in industry sectors. This experience is hard to replicate so private equity firms are constantly increasing compensation to avoid losing their star talent to competitors. There are a finite number of great deals to chase in a given year and these deals are competitive to win. The best chance of ensuring your firm is well positioned to close on the best investments is to have the most talented professionals on your team. In case you were wondering, there are no salary caps in private equity!
As professional's careers progress in private equity, an increasing amount of total annual compensation becomes tied to the firm's performance in the form of carry, notes GoBuyside. Carry is a share of the profits on investments that are made by the firm and structuring compensation in this way helps align incentives. Carried interest is taxed at a long-term capital-gains rate that is roughly half the ordinary income rate for the nation's highest earners.
GoBuyside is a leading, global talent platform that specializes in recruiting investment talent for private equity firms, hedge funds, other investment managers, advisory platforms and Fortune 500 companies across a broad spectrum of geographies and mandates. The firm communicated that although bonuses are typically a combination of three key factors (fund performance, firm performance and individual performance), funds that manage over $1 billion, favor the fund's overall performance over all methods of bonus calculation.
2. Increased negotiating power at marquee private equity firms with successful track records
Some of the biggest contributors to private equity funds are pension funds and endowments. For example, Stanford University invested 26% of its $25 billion endowment into private equity in 2017. These investors look to provide capital to private equity firms they feel can provide outsized market returns. Private equity firms with longstanding histories and track records can leverage their position to negotiate lucrative management and carry fees when agreeing to manage these pension funds and endowments money. These fees have grown as the amount of capital being allocated to the private equity industry has grown and contributed to the increased compensation seen in the private equity industry. According to preqin, the amount of capital raised by private equity and venture capital is at an all-time high with $2.5 trillion under management and 84% of investors say they have a positive perception of private equity, the greatest proportion among alternative asset classes.
I spoke with Alex Khaimov, Business Director of PrintLeaf as well to gain his insights about negotiating with the customer as opposed to negotiating with a firm. He said, "A successful CEO needs to know his customers pain points. Many times, when customers come to printleaf.com they request rush turnaround times. Our customers receive the products in 48 hours form the time of the order anywhere in the U.S. In some cases, they are printed and shipped same day, and the customers receive them in 24 hours. Our ability to do this helped our investors confide in us when we were first starting out."
3. A prolonged low-interest rate environment combined with a robust M&A landscape
Since 2008, most of the world and the United States has operated in a low-interest rate environment which limits the opportunity to generate returns in less risky assets. At the same time, merger and acquisition activity has remained high. These two factors have helped create an environment that encourages investors to take risks. Private equity firm managers have taken advantage of this opportunity and created vehicles that allow for the leveraged purchasing of companies. Investors have been willing to overlook the risk of this strategy partly because the alternative places to invest their money have not been attractive. Investing is a relative game and the market environment of the last decade has been a contributing factor to the growth in private equity and venture capital compensation.
We looked at GoBuyside's 2018 compensation study, a comprehensive private equity and venture capital compensation benchmark providing independent and unbiased data on salary, bonus, carried, the sourcing of this is directly taken from professionals working within the industry. In comparison to the firm's 2016 report, the data showed that 82% of respondents reported an increase in earnings over the last two years.